Exotix Partner says Nigeria's GTBank remains our top pick

We are taking a more cautious view on Nigerian banks going into the end of the year. Bonds have fared well relative to the sovereign following the US election – at one point the GT Bank 2018 bond was quoted only 50bp wider than the NIGERIA 2018. We now think that spreads are unlikely to tighten in the short term.

Most recent developments regarding FX policy have not been positive. Further, activity by militants has impacted oil production and it doesn’t appear that Nigeria has succeeded in taking full advantage of the recovery in oil prices since the first quarter of this year, by increasing production.
This has implications for government FX revenues and therefore for reserves (and the CBN’s FX policy) and asset quality (as currency restrictions may impact some borrowers’ abilities to repay loans). That said, the longer-term positive investment case remains intact, in our view. Nigeria is still under-banked – its largest lender had total assets of just US$16bn at the end of September, and there are less than 30 banks operating in the country.
Further, the retail banking opportunity is, for the most part, untapped, even after the introduction of Bank Verification Numbers. However, the near-term challenges are too great to ignore, and have persisted for longer than we had anticipated. Given this backdrop, we cannot exclude the possibility of further banking sector casualties. As such, we prefer to be cautious.
We believe each lender’s ability to navigate the current challenges will be based more on the bank’s own strengths rather than system improvements. In this regard, we continue to think GTBank is the best placed of the Nigerian lenders. Profitability has remained very strong – the 9-month ROE was over 35 percent, which we think is high in any context. Further, GTBank continued to set aside significant provisions in the third quarter, even though its non-performing loans ratio actually improved in that period. GTBank also fares best in our asset quality stress test. On our estimates, the bank’s equity/assets ratio would still be over 12 percent if its impaired loans ratio increases to 30 percent and if full coverage is required. We maintain our Buy recommendation on the GTBank 2018 bond.
Only three Nigerian bank bonds are tighter than was the case just before the results of the US elections were known – the ACCESS 2017, GRTBNL 2018 and, somewhat surprisingly, the DIAMBANK 2019 bond. The FBNNL 2020 subordinated bond has widened most. While we do not believe the spread widening is fully justified, the bank’s third quarter disclosures did not show much progress in addressing FBN’s larger-ticket NPLs. We estimate that writing off the exposure to Atlantic Energy in full could take 4.0-4.5ppt off the banks’ Tier 1 ratio, assuming that no provisions have been set aside already. There may well be progress on this before the end of the year, but at this point we think it is better to assume that discussions about this – and other, larger NPLs – will take longer, and FBN will need to build up its provisions against these exposures over time. We downgrade our recommendations on the FBNNL subordinated bonds to Hold from Buy to reflect this view. We also downgrade our recommendation on the Zenith Bank 2019 bond to Hold from Buy, primarily reflecting our somewhat cautious view on the sector overall. We expect Zenith Bank results to continue to compare well to most peers, however.
Since our last report on the sector, only Access Bank’s bonds have tightened significantly. This performance largely reflects the exchange offer for the 2017 bond at a premium to where the bond was trading. Following this performance, we downgrade our recommendation on the ACCESS 7.25% 2017 bond to Hold from Buy. With the final maturity in July next year, we see little room for additional upside on this security. We also assign a Hold recommendation to the new ACCESS 10.5% 2021 senior bond. Access Bank has continued to report good results, and we expect its performance to remain much stronger than at many peers. However: (a) the bond is already up since it was issued; and (b) it is unclear that performance at Access Bank will be strong enough to support further significant tightening of the new bond.
We maintain our Hold recommendation on the Diamond Bank 2019 bond. However, we note that performance in the third quarter was particularly poor – Diamond Bank reported a net loss, reflecting high provisions. Further, by the bank’s own admission, foreign currency liquidity is under strain and some restructured loans are being re-